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Car Power (Int'l Edition)

October 22, 2000

International -- Latin American Cover Story

Car Power (int'l edition)

With trade barriers falling, Latin America's auto industry is entering a new era

Karla Fabiola Valdez' eyes sparkle as she talks about her new job. In October, the 30-year-old mother of three became one of the first women to join the assembly line at Ford Motor Co.'s car plant in Hermosillo in northern Mexico. More than 1,000 workers applied for just 24 slots, half of them reserved for women only. After two months of intense training, Valdez now takes home 4,108 pesos a month--around $437 dollars--a princely sum for this Mexican family, which had been living off the meager wages that Valdez' husband, Gabriel, earned as a restaurant worker. "We'll be solid middle class," she says. "We're going to fix up our house, and [we] are dreaming of buying a car."

Some 5,600 miles away in Betim, in Brazil's southeast, Paulo Duraes also thinks he has found his dream job. The 33-year-old is one of a team of 160 Brazilian mechanical engineers that collaborated with colleagues in Italy on the development of Fiat's Palio subcompact car. Duraes and his compatriots put their knowledge of Brazil's tropical climate and rough road conditions to work on the project. Their contributions--from special shock absorbers to custom-designed dust filters--are now features in Palios worldwide. "Ever since I was a boy I wanted to be an auto engineer. But I thought I would have to move to Detroit," says Duraes, who began working for Fiat in Brazil at the age of 18. "Thank heavens, I've been able to do everything an engineer could want to do, without leaving home."

Valdez and Duraes are part of the cast of thousands that is staging a manufacturing revolution in Latin America. Spurred on by a decade of market reforms and an ever-expanding web of free-trade agreements, foreign auto makers have embarked on an unprecedented spending spree. In the past five years alone, companies have plowed almost $40 billion into new assembly plants and auto-parts factories in Latin America.

Car manufacturing has a long history in the region, of course. But until recently, high tariff walls forced companies to maintain operations in each country, where they were confined to selling locally. Now, the Latin American auto industry is entering a whole new era. With barriers to imports falling, manufacturers can supply several countries from a single plant, realizing the economies of scale that had long eluded them.

So carmakers have been centralizing production in the biggest markets--Mexico, Brazil, and, to a lesser extent, Argentina. They are spending millions to refurbish old plants or building new ones from scratch. In their eternal quest for greater efficiency, manufacturers have transformed their freshly minted factories in Latin America into laboratories of sorts. And workers have become active participants in these experiments.EXPORT PLATFORM. Employees are more than willing to undergo months of training in the hopes that their new skills will catapult them into the region's small but growing middle class. And their bosses know that the money they lay out for education will be repaid in the form of higher-quality vehicles. That's allowed U.S., Japanese, and European car companies to turn Mexico into an export platform for some of the world's hottest new cars. DaimlerChrysler's new PT Cruiser is made only in Toluca, outside Mexico City. General Motors Corp. is assembling the Pontiac Aztek sport-utility vehicle exclusively in Ramos Arizpe, near Monterrey. Production of Nissan's New Sentra is centralized in Aguascalientes. And VW manufactures its popular New Beetle in just one location on the whole planet: Puebla. "Fifteen years ago, it would have been unthinkable for auto makers to have so much confidence in Mexico that they could make it the pioneer launching facility for a new product," says Scott Martin, a professor at Sarah Lawrence College who tracks the auto industry in Latin America.

Exports are only half the story, though. Auto makers are also targeting the potentially huge local market. The region has a population of more than 400 million. And the ratio of people to cars on the road is 9 to 1, compared with 2 to 1 in developed countries. Although economic crises hammered domestic vehicle sales in Mexico and Brazil in the mid-to-late 1990s, they are now rebounding. And with the region as a whole expected to grow by an average of 3% to 4% annually over the next few years, sales should continue to climb.LEAN MANUFACTURING. One of the most interesting trends is the level of experimentation taking place, particularly in Brazil and Mexico. These countries have become convenient testing grounds for innovative production processes, such as modular assembly and lean manufacturing, which shave hours off the time it takes to build a new vehicle. At Volkswagen's truck plant in Resende in Brazil's Rio de Janeiro state, for instance, most of the assembly work is performed by parts suppliers--not VW's workers. More militant auto unions in Europe and the U.S. would not stand for that. "It's much easier to do these things here than in the Old World, with its more rigid [labor] practices," says Herbert Demel, president of VW South America.

Mexico, for its part, has become one of the world's most dynamic car exporters. The country has signed free-trade agreements with 23 nations over the past decade, making it an ideal location for auto manufacturers. Proof that local plants can turn out a world-class product is in the trade numbers: Mexican exports of autos and auto parts totaled $29 billion last year.

Ford led the way, back in 1986, when it became the first major auto maker to produce cars in Mexico primarily for export to the U.S. That's when the company inaugurated a new plant in Hermosillo, two hours' drive south of the U.S. border, to churn out the Escort. Fifteen years later, Ford's factory is still considered one of its most efficient in the world. Other standouts are GM's plant in Silao, Guanajuato state, where it produces the Suburban and Yukon Excel, and Chrysler's facility in Saltillo, Coahuila state, where Ram trucks are built. "These plants are doing tremendous things, often implementing lean manufacturing better than they do in the U.S. and Canada," says Laurie Felax, vice-president at Harbour & Associates Inc., a Troy (Mich.) consulting firm that measures competitiveness in the auto industry.

Little wonder that Mexico and Brazil are now key stepping stones to top executive positions at Detroit's Big Three and European auto companies. "When I was down there, Mexico was a $6 billion business and I ran it all," recalls Theodor R. Cunningham, who served as president of Chrysler de Mexico between 1996 and 1998. "You get to run every entity of the business and learn what they do." Cunningham is now executive vice-president for global sales and marketing, responsible for the Chrysler, Plymouth, Jeep, and Dodge brands at DaimlerChrysler.

In Latin America, auto execs also get a taste of the economic ups and downs that are the norm in most emerging markets. "We old Europeans are learning here how to react quickly in changing environments," says VW's Demel, whose tenure in Brazil has included a devaluation that cut sales of light vehicles by 10% in 1999.

Companies are also grooming local talent, actively promoting Mexican and Brazilian engineers to replace expatriates once plants have been set up. At Nissan's huge factory in Aguascalientes, Mexico, there are just 45 Japanese employees, compared with 5,000 Mexicans, including 400 locally trained engineers. "All the workers, if given an opportunity, are eager to learn," says Nissan Mexicana chief Hiroshi Yoshioka.

And auto makers are investing in developing the rank and file on the assembly line. In Mexico, an assembly-line worker earns $2.10 to $2.60 an hour, compared with $21 an hour in the U.S. and $19 in Germany. Because wages are low, companies can afford to lay on an unusual amount of training. Employees routinely learn to perform 10 or more assembly and inspection tasks. VW, for instance, trains new employees for three years, taking in students as young as 15. And each year it sends 100 of its Brazilian engineers to Germany to observe production processes there. Such cross-continental pollination helps build a loyal and able workforce that can churn out world-quality cars--even though production costs run $300 to $1,500 lower per car than in the U.S.

At the same time, carmakers have begun exporting some of the cutting-edge manufacturing methods pioneered at their Mexican and Brazilian plants to other countries. The modular assembly schemes that have been perfected in Brazil, for instance, will be introduced in the U.S. and Germany as new plants are built or old ones are revamped. "We're building a book of knowledge about production systems, policies, and best practices from our experiences in plants around the world," says Frederick "Fritz" Henderson, group vice-president and president of the Latin America, Africa, and the Mideast regional operations at GM.HIGH-END JOBS. Latin American nations, meanwhile, are benefiting from the boost in employment and incomes that the foreign-owned car factories provide. In Mexico, auto jobs are multiplying. The industry as a whole employs more than 611,000, up 50% in the past five years. Brazil presents a slightly different picture. Although the country has received the lion's share of auto investment over the past five years, employment in the industry has actually shrunk by nearly 20%, to 261,500, mostly due to consolidation and streamlining, particularly in the labor-intensive parts sector (page 56). But new investments since 1996 have created more than 25,000 fresh jobs, many at factories yet to come on line. And in Brazil, as in Mexico, the new auto jobs tend to be toward the high end of the pay scale for manufacturing employment.

The benefits of the auto economy are not spread equally, though. While Mexico and Brazil have been the big winners in the auto investment sweeps, Argentina is looking more and more like a loser. Weakened by an 18-month recession and hamstrung by a rigid currency peg, the country's car industry--Latin America's oldest--may be headed for extinction (page 52). In 1995, Italian auto maker Fiat laid down $642 million to build one of its most modern factories in the Argentine province of Cordoba. Today, the facility barely churns out one-third of the 600 vehicles it is capable of producing each day. "We've banged our heads against the wall many times over the last year and wondered why we invested here in the first place," says Cristiano Rattazzi, president of Fiat Auto Argentina.

The gradual disappearance of trade barriers across the region is partly to blame for the collapse of Argentina's auto industry. But it's been a huge boon for Mexico. Thanks to NAFTA, the country's automotive industry is now virtually an extension of that of North America. Since the accord entered into force in 1994, Mexico has logged in $13.6 billion in auto investments. Meanwhile, U.S.-Mexico trade in vehicles and parts has skyrocketed from $14.6 billion in 1994 to $37.6 billion last year. And that commerce will increase when NAFTA tariffs on autos finally reach zero in 2003.

Mexico is now anticipating a new wave of transatlantic investment, too. A free-trade agreement with the European Union that dramatically reduces tariffs on autos and auto parts moving in either direction took effect in July. European carmakers and their suppliers are expected to take advantage of the accord to ramp up operations in Mexico. Renault, which pulled out of the country in 1986, will begin manufacturing the Scenic, a compact sport-utility vehicle, at Nissan's assembly plant in Cuernavaca in January, 2001. This will be the companies' first joint experience in manufacturing since Renault acquired operating control of the Japanese carmaker in early 1999. Patrice Ratti, general director of Renault de Mexico, says the accord helps. "If we want to, we can import motors from France at zero tariff [in 2003]."FULL OF POTHOLES. Brazil is fast developing into an auto center that can match Mexico. Lured by a market of 160 million consumers, GM, Ford, VW, and Fiat have been in Brazil for decades. But others piled in after the country conquered hyperinflation in the mid-1990s, sparking a consumer boom. Since 1995, auto makers have committed $21 billion for new plants and upgrades of existing ones. Thanks to these massive outlays, Brazil's installed production capacity will soon reach 3 million vehicles a year. "If you look at the total production capacity here [in Brazil], 50% of it is in brand-new [plants]," says Luc de Ferran, director of manufacturing operations for Ford South America, which is building a new $1.9 billion plant in the northeastern state of Bahia (page 51).

Unfortunately for investors, the road in Brazil has been full of potholes. Domestic sales of cars and light trucks peaked at 1.9 million in 1997 but began to tumble as local interest rates surged in the aftermath of the 1998 Russian debt default. Then came the devaluation of the real in January, 1999, which pushed sales down to slightly more than 1 million. As a result, the industry now faces huge overcapacity. Ford, for instance, will soon be able to churn out half a million vehicles a year, though it has less than 10% of the local market. Nonetheless, de Ferran is optimistic that with the economy on the mend, sales will rebound this year. "Our capacity will be well used," he says.

These new factories often rely on modular assembly to achieve big efficiencies. At GM's new $600 million facility at Gravatai in Rio Grande do Sul state, 16 suppliers deliver preassembled modules to GM workers who then bolt them together to build the Celta, a new subcompact designed for the Brazilian market.

Thanks to such seamless collaboration, the Gravatai plant uses 60% fewer parts and 40% fewer separate components than is normally needed for a traditional vehicle manufacturing plant. That shaves 15% off the cost of producing each Celta, which is one of the reasons the car carries an affordable price tag of around $7,500, including taxes. GM claims that the Gravatai operation will have an annual production rate of 100 cars per worker, which is better than at some top-of-the-line facilities in Europe. GM is also testing modular production at its factory in Ramos Arizpe, Mexico. There, the new Pontiac Aztek SUV is assembled from 32 modules and hundreds of other components delivered just-in-time by on-site suppliers.

Until now, Mexico's and Brazil's auto industries have remained poles apart. But that may be about to change: At midyear, the two countries signed a one-year pact allowing 40,000 vehicles to be shipped back and forth with a tariff of just 8%--well below the 35% tariff Brazil levies on imports of finished cars and the 20% that Mexico applies to imports from countries with which it doesn't have free-trade agreements. Major auto companies are already lobbying to make the temporary Brazil-Mexico accord permanent, and they want auto parts included in the deal. "We're pushing very hard to sign a long-term, comprehensive auto agreement quickly," says Cesar Flores, president of Mexico's Automobile Industry Assn.

The agreement should allow carmakers to further rationalize their Latin American operations. It might also help companies offset slack demand in one market with exports to another. VW, which inaugurated a new Golf and Audi A3 factory near Curitiba one week after the devaluation of the real, had planned to sell output mostly in Brazil. Now, 50% of its production is exported, mostly to the U.S. and Mexico.

Next on carmakers' wish lists is a free-trade pact between Mexico and Mercosur, the South American common market comprised of Brazil, Argentina, Paraguay, and Uruguay. But given the constant bickering between the bloc's partners over auto trade policies, a Mexico-Mercosur deal could be years away.

In the meantime, foreign auto makers will keep pouring money into Brazil and Mexico, turning dusty backwaters into thriving industrial centers. Fifteen years ago, Hermosillo was a sleepy farming and cattle ranching outpost in the middle of the Mexican desert. Today, it is home to Ford's plant and dozens of auto-parts suppliers. To cement worker loyalty and reduce turnover, Ford built 500 modest, two-bedroom homes near its assembly plant back in 1990. Many of the homes have since been enlarged and painted bright hues of orange, blue, pink, and green. The neighborhood is called Renacimiento, which means "Rebirth"--an appropriate name for a place that might never have existed without the Ford plant.By Geri Smith in Mexico City and Jonathan Wheatley in Sao Paulo, with Jeff Green in DetroitReturn to top